Value Added
Home Sweet Homebuilders
Housing stocks have risen more than five-fold over the past three years and show no signs of slowing down.
By Steven Goldberg, Contributing Columnist, Kiplinger.com
October 14, 2003
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What bear market? The average homebuilding stock has risen more than five-fold since early 2000. The group bottomed just as tech stocks were beginning their ghastly plunge.
What's more, the stocks haven't lost any momentum now that the stock market has recovered, and the new bull market is more than year old.
Housing stocks have rallied so sharply for two reasons. One is obvious: Housing prices shot up as interest rates plummeted and consumers put more money into housing and less into stocks the last few years.
Of course, that kind of change is cyclical. Mortgage rates are already well off their lows, and many experts are questioning just how much higher home prices can go.
But the other reason for the housing stock surge stems from a continuing transformation of the industry. Long dominated by mom-and-pop businesses that boomed in the good times and went belly up in the bad times, the homebuilding industry is slowly being taken over by larger, better managed and better financed firms.
These bigger companies have the deep pockets necessary to buy land when it's out of favor and hold onto it until the market turns. They can borrow money at far lower rates than their small competitors. And they buy a larger volume of materials -- at discounts.
What's more, housing stocks still aren't expensive-at least when you look at their price-earnings ratios. All of the major homebuilders still sport single-digit P/Es. That's because their stock prices haven't been the only things soaring the last three years. So have revenues and earnings.
Model homebuilders
Housing stocks aren't the table-pounding buys they were even a year ago. These companies borrow heavily to finance their activities, and any cyclical downturn in the housing industry will hurt them.
Still it's not a bad industry; you just need to be picky about which ones you buy. William Ferguson, housing analyst at Value Line Investment Survey, likes the sector-a lot. "Housing demand is unlikely to decrease meaningfully over the remainder of the decade," he says. Interest rates remain relatively low, the housing supply is aging and immigrants need housing.
Following are Value Line's favorite homebuilders:
- Hovnanian Enterprises (HOV) is one of the strongest housing stocks, although it has a lot of debt. It trades at a P/E of 8 and is expected to earn $8.65 next year. It's an investor favorite, and Value Line predicts it will remain one.
- Lennar Corp. (LEN), selling at a P/E of 9 and expected to earn $9.60 next year, is also a Value Line favorite. The company is a leading consolidator in the industry. "Strong operating results combined with recent strategic moves make Lennar one of our preferred plays in the homebuilding industry," Ferguson says.
- Ryland Group (RYL) is another top Value Line pick. "It offers one of the best combinations of earnings growth and risk mitigation in the industry," Ferguson says. It trades at a P/E of 9 and is expected to earn $9.30 next year.